Opinion
No. 97-40840-JS Chapter 7
November 12, 1999
DECISION
The parties have advised the court that the Motion for Reimbursement of Costs and Attorneys' Fees filed by Schwarze Industries, Inc. ("Schwarze") is now submitted to the court for decision. The court has considered the papers submitted and the arguments of counsel, and has concluded that the account receivable recovered by the trustee from Kodiak Northwest ("Kodiak") remains subject to a security interest in favor of Schwarze. Consequently, to the extent that Schwarze holds an allowed secured claim for attorneys' fees and costs pursuant to Bankruptcy Code § 506(b), it is entitled to assert such claim against the proceeds the trustee recovered The court has also concluded that: (a) Schwarze is not entitled to any reimbursement out of the estate pursuant to Bankruptcy Code § 503(b), because Schwarze did not proceed against Kodiak with the court's prior approval, (b) that Schwarze has not presented adequate grounds for issuance of a nunc pro tunc order approving its pursuit of the avoidance action against Kodiak, and (c) that Schwarze has failed to establish facts that would estop the trustee from asserting Bankruptcy Code § 503(b)'s requirement that a creditor obtain prior court approval.
It is not disputed that at of the time of the bankruptcy filing, Schwarze held a perfected security interest in the debtor's accounts receivable, and thus, held a secured claim against the estate to secure the principal and interest of the indebtedness it was owed. Bankruptcy Code § 506(a). Nor is it disputed that Schwarze was oversecured at the time of the petition, and thus, was also entitled to recover attorneys' fees and costs as a portion of its secured claim. Bankruptcy Code § 506(b). Nor is it disputed that the debtor transferred its interest in the State of California receivable to Kodiak after the filing of the petition, without authorization from Schwarze or the trustee.
Thus, the question is whether Schwarze must lose the rights it held at the date of the petition solely because of the debtor's unauthorized transfer and the trustee's resulting recovery It might be argued that the debtor's attempted transfer of estate funds to Kodiak violated the automatic stay under Bankruptcy Code § 362(a)(3) (act to exercise control over property of the estate), and thus, was void. Cf. In re Schwartz, 954 F.2d 569 (9th Cir. 1989) (suggesting that Bankruptcy Code § 362(a) does not stay unauthorized, voluntary, postpetition transfers). If the transfer was void, then it obviously could not have operated to extinguish Schwarze's valid lien. Because the court has decided this matter on other grounds, it need not reach this issue. . .
The court concludes in the negative. California Uniform Commercial Code § 9306(2) provides:
(2) Except where this division or subdivision (4) of Section 8321 otherwise provides, a security interest continues in collateral notwithstanding sale, exchange or other disposition thereof unless the disposition was authorized by the secured party in the security agreement or otherwise, and also continues in any identifiable proceeds including collections received by the debtor.
Because the debtor transferred the funds to Kodiak absent authorization, Kodiak obtained the funds subject to Schwarze's security interest, and Schwarze had the right to recover them from Kodiak, independent of any avoiding powers of the trustee. California Uniform Commercial Code § 9306(2). The trustee's recovery from Kodiak should therefore also be subject to Schwarze's security interest.
The trustee cites a number of cases standing for the proposition that a prepetition security interest does not attach to any funds that a trustee recovers as a preference pursuant to Bankruptcy Code § 547(b), and argues that the same principle should govern in this case. See, e.g.,In re Ludford Fruit Products, Inc., 99 B.R. 18, 24-25 (Bankr. C.D. Cal. 1989); In re Bill Perhay Chevrolet, Inc., 172 B.R. 28 (Bankr. C.D. Ill. 1994); In re Sun Island Foods, 125 B.R. 615, 618-19 (Bankr. D. Haw. 1991);In re Antinarelli Enterprises, Inc., 94 B.R. 227, 230 (Bankr. D. Mass. 1988). The court takes no issue with the holdings of these cases, but believes they are inapplicable here.
When the debtor makes a prepetition transfer in respect of an antecedent debt, the transferee normally obtains the funds free and clear of any security interest created by the debtor. California UCC § 9306(2). Therefore, when a trustee avoids such a transfer pursuant to Bankruptcy Code § 547(b), the trustee's recovery is not subject to a security interest as a matter of nonbankruptcy law. California UCC § 9306(2).
This result also follows as a matter of bankruptcy law by operation of Bankruptcy Code § 552(a), which provides:
Except as provided in subsection (b) of this section, property acquired by the estate or by the debtor after the commencement of the case is not subject to any lien resulting from any security agreement entered into by the debtor before the commencement of the case.
Because the trustee's recovery of a preference would be "property acquired by the estate . . . after the commencement of the case" within the meaning of § 552(a), prepetition liens would not attach to the recovery. See Sun Island Foods, 125 B.R. at 618-19.
On the other hand, when a transferee receives and holds property subject to a security interest that had been created by the transferor, then the trustee, by avoiding such a transfer, acquires only that which was transferred, and would thus acquire the recovered property subject to the security interest. Id. at 620. See also,In re Figearo, 79 B.R. 914, 917-18 (Bankr. D. Nev. 1987) (fraudulently conveyed collateral); In re Lively, 74 B.R. 238 (S.D. Ga. 1987). This result is consistent with Bankruptcy Code § 552(a): when property is in the estate at the date of the petition, improperly transferred postpetition, and eventually restored to the estate, then the property is not "property acquired by the estate . . . after the commencement of the case".
The court recognizes that in Figearo andLively, the assets transferred by the debtor and recovered by the trustee were hard assets, not cash, and that tracing was not at issue in such cases. Nevertheless, it would be inequitable under the facts here for the estate to obtain a windfall at Schwarze's expense through the debtor's unauthorized, postpetition transfer of Schwarze's collateral and the trustee's recovery of same via Bankruptcy Code § 549. Under such circumstances, tracing is not required, and the trustee therefore obtained the funds from Kodiak "subject to" Schwarze's lien.See United States v. Real Property Located at 13328 and 13324 State Highway, 89 F.3d 551, 553-55 (9th Cir. 1996); Cunningham v. Brown, 265 U.S. 1, 13 (1923) (starring the Mr. Ponzi); see also In re Goldberg, 168 B.R. 382 (9th Cir. BAP 1994) and cases cited therein at 385 (when the equities so require, a constructive trust can attach to a substituted form of recovery, without strict tracing).
The trustee has raised no additional objections to the allowance, other than a reservation of rights under Bankruptcy Code § 506(c). The court therefore requests Schwarze to submit a proposed order allowing its secured claim for attorneys' fees and costs as requested, subject to any rights of the trustee under § 506(c).